Source:
E-mail dt. 5 September 2011
Dr. P. Ishwara
Associate
Professor,
Department of
Commerce,
Mangalore
University, Mangalagangotri, Konaje – 574 199
Karnataka, India
Abstract
At
present, micro finance institutions are passing through a difficult time as
some of their business practices, including charging of high interest rates and
resorting to strong- arm loan recovery methods, have placed them under the lens
of state Governments. There are
complaints that the MFIs are coercing the poor for borrowing and for
repayments. This has led to severe back
lash in some states like Andhra Pradesh. Dr C. Rangarajan, PMEAC chairman
stated “MFIs are already linked to the banking system. But if this link is to
be strengthened, and if this link is to become a really significance one, MFIs
need to modify some of their lending practices”.
In
this direction an attempt has been made to know the ground reality of cost
involved through the comparison of MFIs and Self- Help Groups (SHG).The SHG
Bank Linkage Programme (SBLP) has contributed significantly to making credit
available to the rural poor, but the true costs and risks inherent in this
model need to be better understood. In SHG model almost 75 per cent of the
origination costs are borne by the SHG members. Of this, a significant
chunk-nearly 60 per cent-is contributed by the opportunity cost of time spent
by members in trainings and meetings conducted for forming the group. This time could have been spent in other,
remunerative activities. Typically, the direct costs to the SHG of forming one
group, amortized over the life of a group, represents 3 % of a loan of Rs 50,000
per group (a part of this cost is borne by the SHPI).
MFIs
charge 24-30 per cent interest rate and operate with a spread of 12-16 percent;
this amounts to Rs.600-800 more than what a bank would charged on an average
Rs10,000 micro finance loan over one year.
In the period of a year the customer has to be serviced 50 times, which
is Rs 16 per visit. The higher cost of
Rs 800 compared to a bank, comes with doorstep service for small, convenient
installment repayments, speedy, non –bureaucratic loan disbursals and access to
borrowing without collaterals. This cost
must be viewed against the opportunity cost for the customer of loss in labour
days if he has to access regular banking channels, in addition to the very high
possibility of not getting any credit. The opportunities for investment for the
poor in the countryside are mind-boggling.
Sa-dhan
the country’s largest umbrella body of MFIs-should create a national database
of district-level MFI operations to prevent an overlap of more than one MFI
operating in the same area and instances of multiple-lending
Full
Paper
Microfinance
has had a distinguished author in Mohammad Yunus and offers a shining example
in the Grameen bank. But in India the idea took a different route with
scheduled banks funding Micro Finance Institutions (MFIs) whose numbers had
grown to around 3000 over a two-decade period. Of these 400 were active till
recently, according to a study by Crisil. Mohammad Yunu’s brainchild appeared
to be working well, per-haps too well. When SKS microfinance went public in
early August and was oversubscribed 13 times, inspiring other private firms in
the business to follow its example. At present, micro finance institutions are
passing through a difficult time as some of their business practices, including
charging of high interest rates and resorting to strong- arm loan recovery
methods, have placed them under the lens of state Governments. There are complaints that the MFIs are
coercing the poor for borrowing and for repayments. This has led to severe back lash in some
states like Andhra Pradesh. The AP Government recently has responded to this
with a seemingly draconian ordinance to control the operations of the micro
finance institutions in the state. This
has temporarily blocked the recoveries in the sector jeopardizing nearly Rs
7000/- crores outstanding money in the state.
The Prime Minister’s Economic Advisory Council (PMEAC) has called microfinance
institutions to reform business practices, and has underscored the need for a
regulatory oversight on the sector. Dr C. Rangarajan, PMEAC chairman stated
“MFIs are already linked to the banking system. But if this link is to be
strengthened, and if this link is to become a really significance one, MFIs
need to modify some of their lending practices”.
In
this direction an attempt has been made to know the ground reality of cost
involved through the comparison of MFIs and Self- Help Groups (SHG).The SHG
Bank Linkage Programme (SBLP) has contributed significantly to making credit
available to the rural poor, but the true costs and risks inherent in this
model need to be better understood.
SHG Bank Linkage
Programme (SBLP)
Under
the SBLP, a SHG with 10-20 members (usually woman) is formed with the support
and guidance of a self-help promoting institution (SHPI). The SHG members are encouraged to make
voluntary savings, which is internally lent. After assessing the savings
discipline and credit history of the group, usually for 6-8 months, the SHPI
links the group to a bank. The banks then make loans to the SHGs in certain
multiples of their accumulated savings, which the group in turn lends to its
own members at a higher rate-24-48
per cent per annum. The group members
are responsible for holding meetings, and collecting and reaching repayments to
the nearest bank branch. So, in effect,
SHGs operate as quasi-banks, using the member’s savings and loans from banks to
on-lend to their own members. It is
important to note here that this structure exposes the savings of member to
local risks and hence, may not be as secure as formal savings. SHPIs typically step back after the groups
are linked to banks and their monitoring role vis-à-vis the group discipline is
not explicit.
Comparison of SBLP and MFIs Model
In
the MFI model, the MFI borrows from various sources (usually banks) and
on-lends to clients, who are usually organized in five-member joint liability
group. Interest rates to the client vary
between 24 per cent and 48 per cent per annum.
There are, however, significant difference is the two models, in the
cost of origination (that is, costs incurred in forming groups, maintaining
register, etc.), the opportunity cost of the group members, the collection
costs and the loan losses. These costs
are incurred by the clients, SHPI, and bank in the SBLP model. Let us look deeper into these and see how the
different costs are borne by the different players in the model. In the SBLP, the SHPI does not lend to
groups, the bank lends directly to groups indentified and promoted by the
SHPI. The cost of creating the groups is
usually provided the government, NABARD or other donors in the form of a grant
and not compensated by the bank.
Therefore, the cost of origination borne by a SHPI, though significant,
typically goes unaccounted for.
Costs to SHPI and SHG
Almost
75 per cent of the origination costs are borne by the SHG members. Of this, a
significant chunk-nearly 60 per cent-is contributed by the opportunity cost of
time spent by members in trainings and meetings conducted for forming the
group. This time could have been spent
in other, remunerative activities. Typically, the direct costs to the SHG of
forming one group, amortized over the life of a group, represents 3 % of a loan
of Rs 50,000 per group (a part of this cost is borne by the SHPI). Since banks lend directly to the groups, the
SHPI does not monitor repayments or manage collections. Instead, the members are expected to visit
the bank and make repayments on their own.
Often, a visit to the bank branch could mean a loss in wages for the client
for that day. The group members
themselves have to manage the entire repayment collection process, including
maintaining records, resulting in significant administration cost. Our estimate shows that this function,
along with time spent in loan repayments operations, effectively ends up
costing the group members about 8 per cent of the loan amount of Rs 50,000 that
the group receives from the bank. This
cost is incurred in the form of wages foregone because of group meetings (5.4
per cent), visits to banks is terms of opportunity cost(0.45 per cent), and
maintaining accounts (1 per cent), as well as the costs of travelling to the
bank branch(1.15percent). So, the SHG
members actually incur a significant amount of hidden cost, which increases the
cost of accessing the credit under the SBLP model beyond the ‘sticker
costs’.
In
the MFI model, in contrast, there is a significant cost attached to the
institution in running its operations in the form of staff and administration
cost is almost negligible for the client, who can repay at her doorstep, every
week.
Interest Rate Misnomer in MFIs
Interest
rates are a percentage-but of the principal amount, and when small amounts are
discussed percentage can be misleading.
MFIs charge 24-30 per cent interest rate and operate with a spread of
12-16 percent; this amounts to Rs.600-800 more than what a bank would charged
on an average Rs10,000 micro finance loan over one year. In the period of a year the customer has to
be serviced 50 times, which is Rs 16 per visit.
The higher cost of Rs 800 compared to a bank, comes with doorstep
service for small, convenient installment repayments, speedy, non –bureaucratic
loan disbursals and access to borrowing without collaterals. This cost must be viewed against the
opportunity cost for the customer of loss in labour days if he has to access
regular banking channels, in addition to the very high possibility of not
getting any credit. The opportunities for investment for the poor in the
countryside are mind-boggling. A young goat bought at Rs
2,000 can be sold at Rs 5,000 in six months of fattening. That is a 300 per cent annualized return. An Rs 15,000 investment in a cow can fetch
revenue of Rs200 a day on milk and a profit of Rs 3,000 per months. That is more than 100 per cent returns
annualized, even accounting for non-lactating periods. The rate of interest on MFI loans should be
viewed against this perspective. People
need capital to magnify investments of their labour, and at the micro level the
timely availability of capital is the difference between a viable activity and
wasted labour.
Cost to the banks in SHG Model
Unlike
the MFI model, where the institution intermediates between the bank and the
clients and the relationship between the bank and the MFI is wholesale, there
is considerable time spent by the branch staff in the SBLP, at the time of
providing loans and servicing the accounts of the SHGs.
According
to the Rangarajan Committee report, the rate of 12 per cent at which banks lend
to SHG, is 10-20 per cent lower than the ‘true total costs’ of a bank. Even if we take a conservative estimate, this
cost is likely to be much more than what is accounted for in the interest rate
currently charged. MFIs make a provisioning for loan loss, which is built into
the final interest rate charged to the client.
This is usually about 2 per cent of the overall portfolio for MFIs. In the case of the SHPI, once the groups are
linked to banks, it is up to the bank to make such a provisioning, as they
would bear the ultimate default.
According to the Nabard Managing Director, Mr. K.G. Karmakar, the
default rate in SBLP was around 12 percent in 2008-2009 and is increasing. It
is likely that the bank takes some expected default into account when it prices
the loan to the SHG groups at 12 per cent but it is not likely that it takes
more than 1-2 percent as expected loan loss.
So, even after accounting for this provision, there is an additional
loan loss of about 10 per cent on the portfolio. If the banks were pricing the SHG loans as
per the actual portfolio performance, their interest rates would be much
higher. As for PUS bankers in rural
areas, most are either too overburdened, or too disinterested to bring about
real financial inclusion.
Need of the Hour
It
is a practice prevalent in micro finance where customers borrow from many
MFIs. Multiple lending is a phenomenon
created by the MFI industry in its urgency to grow and in its reluctance and
inability to lend the right amount to meet each customer’s full needs. This
poses a problem for the customers, but is also a big bugbear for the MFIs as it
brings in competitive pressures and, more significantly, obfuscates the
customer’s current debt level and cash flow situations. It is a fact that multiple lending does lead
borrowers into debt traps, especially when the poor borrower has emergency
needs to be met. An exclusive
relationship between the customer and an MFI would put the onus directly on
MFIs in the event of debt traps.
MFIs
achieve high repayment rates because of the group liability. There are no guarantees and no
collaterals. Discipline and joint
liability are at the heart of micro finances, enabling regular receipts of the
money. There is a fine line between
being benevolent and creating a moral hazard.
MFIs have spent years getting the poor to maintain credit discipline,
and now politicians are tempting them with potential loan waivers. MFIs need to arrive at the right balance
between strictly enforcing group liability and allowing exceptional defaults,
but still keeping the group mechanism relevant.
Conclusion
Borrowers
taking loans from microfinance institutions (MFIs) must pay back one loan
before taking another. They may no
longer be allowed to indulge in “multiple borrowing “from the same MFI or from
more than one. Similarly, MFIs may also
not be permitted to lend to an individual who has an outstanding loan. The Government is likely to tackle this issue
through the Micro Finance Bill by incorporating provisions that will help
identify wrong-doers and discourage these practices..
In
this regard, the Ministry should hold talks with the Unique Identification
Authority of India to evolve a system to identify persons availing themselves
of multiple loans so that they will not be eligible for loans if they do not
repay. It is also come to know that,
there are instances where people have take more than one loan from MFIs under
different or bogus names. It has noted
cases where persons have taken advantage of the differential rates of interest
offered by different institutions and used the loan amount from one to pay the
other.
It has observed that owing to competition, some MFIs have resorted to
multiple-lending without looking at the repayment ability of their
customers. There have also been
instances of ‘ever-greening’ of loans by MFIs where they have provided fresh
loans to borrowers to help them repay the old ones, instead of defaulting. MFIs allegedly resort to such practices in a
bid to grow fast, increase profits, and investment and even to go in for
initial public offers. Industry
sources said MFIs would be soon forced to write-off loans in the
multiple-lending category. Sa-dhan the
country’s largest umbrella body of MFIs-had attempted to create a national
database of district-level MFI operations to prevent an overlap of more than
one MFI operating in the same area and instances of multiple-lending. But the exercise is yet to take off as MFIs
have not furnished details, they said.
“Sa-dhan
members have decided to move towards reducing loan size per household to a
limit of Rs 50,000 and practicing within 30 days the Sa-dhan code of conduct on
transparency, governance, anti-coercive practices and training of field
workers.
References
1.
Micro
finance in India: A state of the sector report, 2007- by Prabu Ghat
2.
Micro
finance in India: issues and challenges- by J V ahmed,D Bhagat.
3.
Savings
of the poor-by Shankar Datta.
4.
Banking
services for the poor- by Robert Peek.
5.
Business
Line News papers on Nov 9th, 12th, 17th, and
23rd 2010.